Original Article Title: Disrupting the Cost Structure of Lending
Original Article Author: Stani.eth, AAVE Founder

Original Article Translation: Ken, Chaincatcher

On-chain lending started around 2017 as a fringe experiment related to crypto assets. Today, it has evolved into a market exceeding $100 billion, mainly driven by stablecoin lending, with Ethereum, Bitcoin, and their derivatives as the primary collateral. Borrowers unlock liquidity through overcollateralization, engage in leverage loops, and perform yield farming. It's not about creativity, it's about validation. The actions of the past few years indicate that even before institutions started paying attention, smart contract-based automated lending had real demand and real product-market fit.

The crypto market still exhibits volatility. Building a lending system on top of the most vibrant assets in existence forces on-chain lending to address risk management, liquidation, and capital efficiency immediately, rather than hiding them behind policy or human discretion. Without crypto-native collateral, the full power of automated on-chain lending would not be possible. The key is not cryptocurrency as an asset class but the cost structure transformation brought by decentralized finance.

Why On-Chain Lending Is Cheaper

On-chain lending is cheap not because it's a new technology but because it eliminates layers of financial waste. Today, borrowers can obtain stablecoins on-chain at around a 5% cost, while centralized crypto lending institutions charge 7% to 12% interest plus fees, service charges, and various additional costs. When conditions are favorable for borrowers, choosing centralized lending is not only conservative but even irrational.

This cost advantage does not come from subsidies but from capital aggregation in an open system. Permissionless markets excel in capital aggregation and risk pricing structurally over closed markets because transparency, composability, and automation drive competition. Capital flows faster, idle liquidity is penalized, and inefficiencies are exposed in real-time. Innovation spreads instantly.

When new financial primitives like Ethena's USDe or Pendle emerge, they absorb liquidity from the entire ecosystem and expand the usability of existing financial primitives (such as Aave) without the need for a sales team, reconciliation processes, or back-office departments. Code replaces management costs. This is not just an incremental improvement; it's a fundamentally different operating model. All cost structure advantages are passed on to capital allocators, and most importantly, benefit borrowers.

Every major transformation in modern history has followed the same pattern. Heavy asset systems became light asset systems. Fixed costs became variable costs. Labor became software. Centralized scale effects replaced local duplication. Surplus capacity turned into dynamic utilization. The changes initially looked bad. They served non-core users (e.g., focused on cryptocurrency lending rather than mainstream use cases), competed on price before quality, and looked unserious before scaling up and incumbent firms could not compete.

On-chain lending follows this pattern precisely. Early users were primarily niche cryptocurrency holders. The user experience was poor. Wallets felt alien. Stablecoins did not touch bank accounts. But none of this mattered because it was cheaper, faster, and globally accessible. As everything else improved, it became easier to access.

What Comes Next

During bear markets, demand drops, yields compress, exposing a more crucial dynamic. Capital in on-chain lending is always in competition. Liquidity does not stagnate on the decisions of a quarterly committee or assumptions on a balance sheet. It continually reprices in a transparent environment. Few financial systems are as unforgiving.

On-chain lending doesn't lack capital; it lacks assets to lend against. Today, most on-chain lending recycles the same collateral for the same strategies. This isn't a structural limit but a temporary one.

Cryptocurrency will continue to generate native assets, productive primitives, and on-chain economic activity to broaden the lending landscape. Ethereum is maturing as a programmable economic resource. Bitcoin is solidifying its role as an economic energy store. Neither is a final state.

If on-chain lending is to reach billions of users, it must absorb real economic value, not just abstract financial concepts. The future will autonomously combine cryptographic native assets with tokenized real-world claims and obligations, not to replicate traditional finance but to run it at vastly lower costs. This will serve as the catalyst for decentralized finance to replace the old financial backend.

Where Lending Went Wrong

Today, lending is expensive not because capital is scarce — it is abundant. Prime capital's clearing rate is 5% to 7%. Risk capital's clearing rate is 8% to 12%. Borrowers still pay high rates because everything around capital is inefficient.

The origination process has become bloated with customer acquisition costs and lagging credit models. Bifurcated approvals lead to prime borrowers overpaying while subprime borrowers are subsidized until default. Servicing is still manual, compliance-heavy, and slow. Incentives at every layer are misaligned. Those pricing risk rarely take on real risk. Brokers bear no default liability. Loan originators sell risk immediately. Everyone gets paid regardless of the outcome. The flaws in feedback mechanisms are the true cost of lending.

Lending has not been disrupted because trust has prevailed over user experience, regulation has constrained innovation, and losses have masked inefficiencies before they could surface. When lending systems collapse, the consequences are often catastrophic, reinforcing conservatism over progress. As a result, lending still looks like an industrial-age product bolted onto the digital asset market.

Breaking the Cost Structure

Unless loan origination, risk assessment, servicing, and capital allocation are fully software-native and on-chain, borrowers will continue to pay excessive costs, while lenders will continue to rationalize these costs. The solution is not more regulation or incremental user experience improvements. It is about breaking the cost structure. Automation replaces processes. Transparency replaces discretion. Determinism replaces reconciliation. This is the disruption decentralized finance can bring to lending.

When on-chain lending becomes significantly cheaper in end-to-end operation than traditional lending, ubiquity is not a question but a necessity. Aave has emerged in this context, able to serve as the base capital layer for a new financial backend, catering to the entire lending space from fintech firms to institutional lenders to consumers.

Lending will become the most empowering financial product simply because the cost structure of decentralized finance will enable fast-flowing capital to reach the most capital-needy use cases, fostering a plethora of opportunities.

Original Article Link

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